CAPM augmented with liquidity and size premium in the Croatian stock market

Abstract

This article examines the following models: Capital Asset Pricing Model (CAPM) (Sharpe, 1964), and Liquidity CAPM (Hearn, Piesse and Strange, 2009) in the Croatian stock market. We used daily data for the period 2005–2009. The goal of this article is to examine the impact of an overall market factor, factor related to the firm size, and factor of liquidity risk on expected asset returns in the Croatian stock market. We found that Liquidity Capital Asset Pricing Model (LCAPM) model performs better in explaining stock returns than the standard CAPM. Additionally, LCAPM may indeed be a good tool for realistic assessment of the expected asset returns. The combination of company size and illiquidity in asset pricing in the context of the Fama and French cross-sectional framework can improve the description of equilibrium in the Croatian stock market.

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